Interesting peek into the future.... Roth vs RMDs

[NW-Bound]

Are you sure you have the right handle on what matters?

He was joking.

 

[Dtail]

Since we are in the 12% bracket and already collecting SS, the marginal rates of Roth conversion are not a clear cut advantage. We have done some conversions already, mostly on her side, but still contemplating how much more to be done.

 

[old medic]

Like others, what you are musing about is just not clear and if it's centered on SS (again unclear) you are ALREADY in the 85% of SS taxed bracket.

I don't mean to be unduly harsh, but, I'm not sure why you're pussyfooting around with these percentages. You already have told us that you're doing conversions to the top of the 12% bracket so we know what your approximate income is.

Its more about our possible tax consequents in the future not doing conversions now. We have room to do around $35-40K in conversions a year. And dont have millions to worry about...

 

[RetireBy90]

May I rake just a second of time to remind it is how much you will have left after paying taxes, IRMAA, and other various levies.
Of course taxes and other claims on your pile are used to determine how much you can keep but I need to be reminded frequently to focus on what I keep, not taxes.

 

[junkanoo]

May I rake just a second of time to remind it is how much you will have left after paying taxes, IRMAA, and other various levies.
Of course taxes and other claims on your pile are used to determine how much you can keep but I need to be reminded frequently to focus on what I keep, not taxes.

Absolutely. Social media is peppered with Financial Advisors trying to scare the heck out of folks by talking about the so-called Widow's Tax (and thus drum up more business).

They love to talk about some widow being in the 32% marginal tax bracket (if only for a cup of coffee) while ignoring that she is also being taxed at the 0-10-12-22-24% rates. They love to ignore the benefits of even a limited amount of QCDs. They love to ignore the reality that the spouse she lost - more likely than not - also had the more expensive hobby's and stuff. So, that purchase of that $1k fly fishing rod is no longer happening nor the cost to maintain that 1966 Mustang. And ... to your point, they wish to concentrate on taxes rather than wealth ... because her wealth is still increasing.

 

[TheWizard]

Absolutely. Social media is peppered with Financial Advisors trying to scare the heck out of folks by talking about the so-called Widow's Tax (and thus drum up more business).

They love to talk about some widow being in the 32% marginal tax bracket (if only for a cup of coffee) while ignoring that she is also being taxed at the 0-10-12-22-24% rates. They love to ignore the benefits of even a limited amount of QCDs. They love to ignore the reality that the spouse she lost - more likely than not - also had the more expensive hobby's and stuff. So, that purchase of that $1k fly fishing rod is no longer happening nor the cost to maintain that 1966 Mustang. And ... to your point, they wish to concentrate on taxes rather than wealth ... because her wealth is still increasing.

Absolutely correct.
Our income tax system is generally progressive, especially once you have 85% of your SS taxed and your Qdivs taxed at 15%.
IRMAA is the main thing with a cliff structure, but it can be managed with planning.

So what really matters is how much net income you have after taxes are paid.
And what matters even more for those of us with both SS and RMD income is: how much excess income do I have after taxes are paid and all expenses for the month are paid...

 

[sengsational]

now at 65 a whole lot of chickens are coming home to roost.

I remember many of us getting the message to "convert big" from i-orp all those many years ago. There were quite a few "I'm not paying taxes now for sure to avoid maybe pay later" on this board. I mostly held my nose and did what the model recommended. But the strong market "problem" means I have to keep holding my nose every year. Nice problem to have, I admit.

 

[JoeWras]

They love to ignore the benefits of even a limited amount of QCDs.

Oh my gosh, heaven forbid their client reduces their net worth by giving some of it away. They might take a real hit to their AUM if the widow goes crazy and gives $110k to Red Cross. Oh the humanity!

 

[JoeWras]

I remember many of us getting the message to "convert big" from i-orp all those many years ago. There were quite a few "I'm not paying taxes now for sure to avoid maybe pay later" on this board. I mostly held my nose and did what the model recommended. But the strong market "problem" means I have to keep holding my nose every year. Nice problem to have, I admit.

We still have some runway until we take SS and have RMDs. At least 7 years. This year we have to officially worry about IRMAA, so I'm being careful. Last year I wasn't paying attention and bumped into the NIIT zone. So it goes.

The conversions over the last 7 years are really starting to make a difference, especially now that I can see meaningful growth numbers in the Roth balance too. At first it just seemed so useless with the tiny numbers. But now, our Roth percentage of retirement accounts is significant, about 20%. It will matter come RMD time if we continue the strategy another 7 or 8 years. We won't be all Roth, but it should reduce RMD pressure.

 

[sengsational]

I took my eye off the ball and am paying IRMAA this year. Stirs my efficiency gene because I was only about halfway to the next break point. But procedures are in place to do better.

 

[old medic]

So, that purchase of that $1k fly fishing rod is no longer happening.

OHH OHH OHH..... Custom handmade Bamboo?... Been flinging feathers since about 1975.

 

[TickTock]

IRMAA is the main thing with a cliff structure, but it can be managed with planning.

Yah. That and (for those of us <65) ACA PTCs.

Our current plan is to delay SS until 70 and do Roth conversions after 65. Subject to change as life unfolds, of course.

So what really matters is how much net income you have after taxes are paid.

Yah. Gotta keep your eye on the end goal.

 

[ncbill]

Keep in mind some of us are doing Roth conversions for our (non-spouse) heirs.

I wish I had had the presence of mind to convert my mom's tIRA to Roth when she was sick.

I would have happily paid any taxes owed.

Though her medical expenses were so high that would have unlikely.

Now I have distributions from that IRA stretched over my lifetime.

But as ordinary income they negatively impact my tIRA to Roth conversions.

 

[Perryinva]

I never knew I would not be able to convert RMDs to Roth! Thank you for that! I don’t understand the reason for that law, as the IRS still gets their taxes out of it. So once removed as an RMD amount, it can never be tax sheltered again. So that means I may as well convert whatever room remains in that bracket or to IRMAA, which ever comes first, (which will not be much, I think) and pay the taxes on that from the RMD, (fungible ) which means then at least using some of it backdoor to fund the Roth. It really depends on how large the tIRA keeps growing, I guess.

 

[SecondCor521]

I never knew I would not be able to convert RMDs to Roth!

It is also necessary to meet the RMD before doing Roth conversions in any given tax year. Another rule I don't like, but it is a rule (technically it's one of the CFR's).

 

[YellowSubmarine]

The Passive Income thread got me to playing with some #s. Here is what we are looking at next year after DW is fully retired doing conversions up to the top of 12% bracket.
2027 projection
My pension-27%
My SS- 25%
DW Pension- 23%
Roth Conversion 25%

Once Conversions are done and DW starts SS...
My pension-23.5%
DW pension-20.5%
My SS-21%
DW SS-16%
4% Roth WR 19% (Not needed)
This amount would push us into the next bracket IF it was taxable. 85% of SS will be.
But if its forced by RMDs the percentage would start about the same as the Roth WD and increase each year, to about 33% by year 10.

I retired at 59.5, 2011. Since then, I always and continue to Roth convert up to my target tax bracket. Now my Roth is 3x my tIRA and my RMA is appx. 26k; and during my lifetime, my RMD should never surpass 58k.. I am good with that. I will maintain my tax bracket rain or shine.

 

[TheWizard]

I never knew I would not be able to convert RMDs to Roth! Thank you for that! I don’t understand the reason for that law, as the IRS still gets their taxes out of it. So once removed as an RMD amount, it can never be tax sheltered again. So that means I may as well convert whatever room remains in that bracket or to IRMAA, which ever comes first, (which will not be much, I think) and pay the taxes on that from the RMD, (fungible ) which means then at least using some of it backdoor to fund the Roth. It really depends on how large the tIRA keeps growing, I guess.

It's still great fun to accumulate the RMDs in your taxable account.
There, you can do Tax Loss Harvesting and subtract a whopping $3000 per year from your Ordinary Income, an advantage that Roth accounts don't have...

 

[old medic]

Keep in mind some of us are doing Roth conversions for our (non-spouse) heirs.

One reason behind our push to get everything converted. The taxes have to get paid at some point, might as well Git-Er-Done

 

[junkanoo]

One reason behind our push to get everything converted. The taxes have to get paid at some point, might as well Git-Er-Done

Building generational wealth is as reasonable an objective as any other. However, I strongly believe that those good intentions can backfire for three basic reasons.

1. Knowing what tax bracket your heirs will be in the future is a crapshoot at best. That they might have a big salary now is even more reason (in this era of A.I. and age discrimination) that they won't have it next year (let along next decade). Or be so dissatisfied in their work that they retire early (like so many on this board).

2. If prudent, your heir(s) could (if they have heirs) disclaim the inherited IRA assets and thus gifting those assets to their children - who might be in a lower tax bracket (along with other possible options). One could also decide (late in life) to gift your IRA to charity, if your heirs have more dollars than sand pebbles on the beach.

3. Logic/math fail. All the time I hear things like ... 'my marginal tax rate is 22% while my son's marginal tax rate is 32% ... so what sense does it make for him to inherit my IRA assets at the 32% bracket or worse?' Yes, it is correct to look at YOUR marginal tax rate of 22% for a Roth Conversion because YOU made the decision to do that Roth Conversion. Nobody forced it on you. It's quite another thing to look at your heirs' marginal tax rate for any rational analysis/outcome.

Let's set the stage. You create a will where if one child disclaims the IRA inheritance, it all goes to your only other child. Further, let's state that both children are in the same exact tax bracket to eliminate any point in bartering or the like between the two. Both children are in the 32% marginal tax rate with an effective tax rate of 16%. So, the real result is that both children might now have an effective tax of 19%, which is below your marginal tax rate of 22% .... so why did you do it? And if it were a virtual tie, why would you decide to get taxed now when the value of a dollar is worth more than it will be in the future?

Now, someone is going to ask ... why shouldn't the heirs' marginal tax matter in this analysis? Because it would be nuts for them to NOT take the inheritance, just like it would be nuts for them to give up that job that's paying them $500k a year because of marginal tax considerations. After all, would anyone in their right mind suggest that they decline taking that bonus that got them into that 32% bracket? The same thing applies to the IRA inheritance. So, inherited IRA income is merely the reality of the heirs' effective tax rate.

 

[Al18]

"Both children are in the 32% marginal tax rate with an effective tax rate of 16%. So, the real result is that both children might now have an effective tax of 19%, which is below your marginal tax rate of 22% .... so why did you do it?"

This logic makes no sense. 32% marginal tax rate is always above 22% marginal tax rate, so the smart move is to do a Roth IRA conversion for at least some of it.

 

[junkanoo]

"Both children are in the 32% marginal tax rate with an effective tax rate of 16%. So, the real result is that both children might now have an effective tax of 19%, which is below your marginal tax rate of 22% .... so why did you do it?"

This logic makes no sense. 32% marginal tax rate is always above 22% marginal tax rate, so the smart move is to do a Roth IRA conversion for at least some of it.

For this heir, his taxes are a combination of two sources of income (salary/bonus and inherited IRA). All of this income will be taxed at the 0-10-12-22-24-32% brackets. Assigning all of the Inherited IRA income to the 32% marginal rate is based on what? And if you're doing that, in effect, you are assigning all of the 0-10-12-24% tax brackets to his salary/bonus income. What is the logic of one stream of income being treated differently?

 

[Al18]

Don't have anything nice to say, so I won't.

 

[junkanoo]

Don't have anything nice to say, so I won't.

Yet you chose to post this when you could have just gone on your way.

We're only discussing tax strategies, nothing more, nothing less. If my points and questions are upsetting you, please consider ... why.

 

[Out-to-Lunch]

What is the logic of one stream of income being treated differently?

Because THAT is the stream of income that is affected by his parents' decision to Roth convert or not. See, it works "at the margin."

 

[junkanoo]

Because THAT is the stream of income that is affected by his parents' decision to Roth convert or not. See, it works "at the margin."

But THAT's not reality.

Reality is that *if* the father were to do Roth Conversions, they would be taxed at the 22% marginal tax level. THAT's reality, because THAT's what he is paying.

*IF* the father doesn't do Roth Conversions, reality is that the heir will pay taxes at the 0-10-12-22-24-32% level ... so reality is that his tax rate is 19% ... because THAT's what he is paying. THAT's real money.

Without the gift in the example given, the heir still goes into the 32% marginal bracket. Would you suggest that that bonus he received cost him 32% of taxes? Hopefully not, as the first dollar earned from his salary contributes the same to his actual taxes as the last dollar from the bonus. The same goes for the Inherited IRA, it is just more ordinary income and taxed the same way as his salary. Assigning the highest marginal tax rate to the gift is simply some sort of odd virtue signaling.

So the wise father is not paying 22 cents on the dollar now for an outcome where the son will pay 19 cents on the dollar later.